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As a result of the 2003 Jobs Growth Tax Relief Reconciliation Act, certain dividend income received by individuals are eligible for the maximum capital gains rate of 15% beginning with the 2003 tax year. This is definitely good news for shareholders of controlled foreign corporations (CFC) since the maximum tax rate on dividend income was 35%. However, there are a few catches to this rule.

Not all foreign corporation dividends qualify for the lower rate. Only dividends paid by so-called "qualified foreign corporations" are eligible. A qualified foreign corporation includes:

• A foreign corporation whose stock (or American Depository Receipts-ADRs) is traded on an established U.S. securities market;
• Corporations organized in U.S. possessions and other foreign corporations eligible for certain income tax treaty benefits. The Canada - U.S. Income Tax Treaty is recognized as a qualifying treaty by the IRS.

Another requirement for the lower tax rate on dividends is that the shareholder must own the dividend-paying stock for more than 60 days during the 120-day period beginning 60 days before the stock's ex-dividend date. For certain preferred stock, this period is 90 days during a 180-day period. Also, the dividends must be paid rather than imputed.

However, if the corporation qualifies as a foreign personal holding company, a foreign investment company, or a passive foreign investment company for 2003 or for 2002, the lower tax rate does not apply.

Therefore, stockholders should consider having the corporation pay out dividends to take advantage of the lower rate. The sale of CFC stock is also eligible for the 15% rate under IRC Sec. 1248 through the year 2008. If you would like additional information regarding these rules or wish to discuss tax-planning options, please call us at (360) 734-8715.